Do Audit Committees Effectively Engage in Voluntary Reporting to Manage Legitimacy? Evidence From a Large-Scale Textual Analysis

Abstract

This study investigates (1) whether legitimacy management motivates audit committees to voluntarily disclose their financial reporting oversight activities in the audit committee report and if so, (2) whether such legitimacy management disclosure strategy is effective. The answer is important because, if true, it would suggest that (1) a regulatory mandate to require expanded audit committee reports may not be necessary, and (2) audit committees are able to use disclosures to effectively maintain and restore their legitimacy. Performing a large-scale textual analysis of over 8,000 U.S. companies’ audit committee report disclosures issued between 2006 and 2017, we find that audit committees voluntarily increase disclosure of their financial reporting and auditor oversight activities following (1) the SEC’s 2015 Concept Release which encouraged greater audit committee disclosure and (2) a company’s announced need to restate its financial statements. In addition, we find that increased audit committee disclosure partially mitigates the negative impact of a restatement on shareholder satisfaction with the audit committee, as measured by shareholder votes to ratify the audit committee members and audit committee turnover.

Keywords: audit committee reports, voluntary disclosure, textual analysis, LIWC

JEL Classification: M41, M48